By now we all know about the events of the weekend. Capital controls in Greece; and the Greek government has put the decision about whether to accept the bailout to a referendum for Greek voters. It is due to happen this next Sunday, and already Eurozone leaders have insisted that this referendum is effectively a vote on Greece’s Eurozone membership, a rejection of the bailout and its associated terms doesn’t result in an alternative proposal being presented. This really is as good as it gets. Take it or leave it. Grexit or Grexin if you will! That’s the politics, but of more interest to me is how the markets have reacted. Here’s a brief rundown…

EUR/USD – gapped 1.6% lower in thin Sunday night (at least if you live in the European time zone) trading. Rallied 2.1% on Monday closing above the Friday’s price range. This morning the currency pair is trading near the top of yesterday’s range, albeit with signs of some slight reversal of yesterday’s euro strengthening.

Eurostoxx 50 – gapped lower 4.3% in very thin (off market?) trading on Sunday night. Trading in a massive range on Monday but closed the day almost another 1% lower. This morning the index is already over 0.6% down

Other markets – there was clearly a flight to quality as bund yields dropped 20bps from Friday’s close to Monday’s open, but by mid-afternoon yesterday half of those gains had been given back, before a rather more gentle rally into the close. Some of the risk off trade is being given back again today with a slight uptick in bund yields this morning. This risk off phenomenon also manifested itself in some spread widening versus other Eurozone sovereign debt versus bunds.

No need to run through it in detail, the pattern is fairly clear. Extreme risk off on the announcement of capital controls in Greece as seen by the reaction of the markets. But, one might ask, how come the euro bounced yesterday? That’s the easy question… the euro is now the world’s funding currency, we should expect it to rally when fear is in the air, and decline when greed is in the ascendancy. The reaction overnight on Sunday is slightly more puzzling to be honest, but could have been the reaction of very illiquid markets with people far away who misunderstand the current paradigm. If that’s the case, they lost a lot of money dumping euros on the assumption that heightened risk of Grexit will be a euro negative. In my view, it is very likely that ECB has (having had years to prepare) successfully put in place infrastructure that will protect the Eurozone monetary system from any cataclysmic consequences of Grexit. If that is indeed the case, then once this crisis is resolved, the market will naturally look towards the next thing. That next thing is what action the US Federal Reserve is likely to take concerning interest rates in the United States. Assuming there are no global implications to Grexit, then an interest rate hike is imminent and the US dollar should rally. Are there global implications? Probably not, if the ECB has properly walled off the Greek economy. I’m sure that Draghi and Yellen are in constant contact and they will understand better than most whether that is indeed the case.

I’m not sure what to think about Prime Minister Tsipras, but it’s not clear to me that he’s anybody’s fool. So far he has shown a good grasp of geopolitics, with his flirtation with President Putin. He has also shown a certain political savvy in passing the decision on to Greek voters. If they vote to accept the bailout terms he will effectively have washed his hands of making the decision himself, and they will have done so accepting the consequences of a brutal austerity package that will affect generations of Greeks. It will inevitably lead to a cultural change in Greece, at least in terms of how Greeks interact with their government and their expectations of the services they can expect. It’s just possible that Syriza can get away with the classic “not me Guv!” response when the pain of implementing the austerity programme is implemented by them. It is also sensible that this denouement has happened as early as it has in his premiership. If this is his political calculation then it is genius. When you think about it, it’s not that dissimilar to the thought process behind the Conservative party’s austerity strategy after their UK election in 2010. And look what happened… the Conservative party just won an outright majority.

One thing is certain, Greek referendum polls could have a significant impact on global risk sentiment this week. There remains the possibility that the corrective dynamic which started after the dollar highs in mid-March are still in force, so we must be open to the possibility that EUR/USD could make another new high. We still maintain a fair amount of conviction that when the bigger picture trend starts again it will likely lead to new dollar highs and euro lows, but when that start will be is the trillion dollar question. Looking at previous bigger picture dollar moves, corrective periods have lasted as short a time as 3 – 4 months and in some cases well over a year. We should be open to all possibilities.

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